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What are the marks of poor investment advice?

Basically, how do you evaluate whether the investment advice someone is giving you is good or bad?

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Poor investment advice often begins with " Psssst! I got a great tip for you... " – Chris W. Rea Sep 3 '10 at 17:26
Charles Schwab ads: Want a good stock tip? ... "Don't listen to stock tips." – fennec Sep 3 '10 at 22:25
@Chris - I think any advice that starts with "Psst!" is probably bad advice. – JohnFx Sep 4 '10 at 18:21
@JohnFx: Counterexample: " Psssst! Pay down debt and live within your means! " :-P ;-) – Chris W. Rea Sep 4 '10 at 20:25

I would also consider unnecessarily complex investment strategies a big warning sign as they can easily hide poor investment advice or a bad strategy. This is especially the case when it comes to retail investment as complex strategies can have so many moving parts that you, as someone with a day job, can't spend enough time on it to keep an eye on everything and you only spot issues when it's too late.

Other bugbears:

  • "Everybody does it". That might work for lemmings but isn't a useful investment strategy.
  • Assumption that prices of certain assets can only ever increase (housing bubble, anyone? And yes, I got burnt by housing as well)
  • Lack of information/transparency. Typical example was Bernie Maddoff, from what you hear the investment "advice" given their "investors" didn't contain enough detail to work out what the fund was doing and thus made it very hard to gauge its suitability. And we all know how that movie ended
  • Anything that would require you to either invest all your assets in a single investment or requires you to borrow to invest. Note the keyword here is require.
  • Investments that are hyped on their tax savings rather than their overall returns.
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Ah, yes. My aunt was pitching real estate (and San Francisco real estate, at that) as an asset class that will "never go down!" in mid-2007. Mmmmhmm yep. – fennec Sep 3 '10 at 22:28
"Investments that are hyped on their tax savings rather than their overall returns." Or investments that trade so often that they get killed by taxes. Or anything that fails to take inflation and taxes into the picture. – Jared Updike Sep 4 '10 at 7:06
@Jared Updike - or fails to account for transaction fees... – bstpierre Sep 5 '10 at 4:17

Bad signs:

  • The person giving the advice is frightened or a zealot.
  • There is one and only one magical asset class (real-estate, large caps, gold, etc).
  • "It's so easy!"
  • He/she has a lot to gain by you following the advice, but risks nothing.
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(1) I think the phrase "Variable Annuity" is a glowing red flag. A corollary to that is that any strategy that uses insurance for a purpose (e.g. tax avoidance) other than protecting against loss rates at least a yellow flag.

(2) The other really obvious indicator is a return that is completely out of whack with the level of risk they are saying the investment has. For example, if someone promises a 10% annual return that is "Completely Safe" or "Very low risk", Run.

(3) If it is advertised on tv/radio, or all your friends are talking about it at parties. Stay away. Example: Investing in Gold Coins or the hot Tech IPO.

(4) The whole sales pitch relies on past returns as proof that the investment will do well without any real discussion of other reasons it will continue to to well. Beware the gambler's fallacy.

(5) Finally, be very wary of anyone who has some sort of great investment plan that they will teach you if you just pay $X or go to their seminar. Fee based advice is fine, but people selling a get rich quick vehicle typically know the real way to get rich is to get suckers to pay for their seminars.

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(1) excellent advice. We agree on the Red Flag nature of the VA. Insurance may be part of one's overall plan, but is never central to one's investment strategy. If it's mentioned any sooner than "last" or "next to last" I throw the flag. It's grouped in with wills and proper estate planning. – JoeTaxpayer Sep 8 '10 at 12:48

If you see something that looks like a sales pitch, be skeptical, even if they sound informed, say things which resonate with your concerns and promise to alleviate your problems. Watch out in particular for people who pontificate about matters which are tangentially related to the investment (e.g. populist anti-Wall-Street sentiment). Beware limited-time opportunities, offers, and discounts. I'm specifically talking about your email pitches, Motley Fool. They're shameful.

Remember you're allowed to change your mind and go back on something that you've said a few minutes ago. If anyone tries to trick you into agreeing to go along with them by taking what something you've said and manipulating it, or uses logic to demonstrate that you must buy something based on things you've said, tell them you're not comfortable, head for the door and don't look back. Don't be afraid of embarrassment or anything like that. (You can investigate whether your position is in fact logically consistent later.) Run away from anyone who resents or deprecates the notion of a second opinion.

Don't ever go along with anything that seems shady: it may be shadier than you know. Some people thought Bernie Maddoff was doing some front-running on the side; turns out it was a Ponzi scheme. (Likewise the Ponzi scheme that devastated Albania's economy was widely suspected of being dirty, but people suspected more of a black-market angle.)

Beware of anyone who is promising stability and protection. Insurance companies can sell you products (especially annuities) which can deliver it, but they're very expensive for what you get. Don't buy it unless you seriously need it.

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+1 for being allowed to change your mind! Anyone legit will have no problem giving you a enough time to make a considered decision. – bstpierre Sep 5 '10 at 4:19
+1 for Motley Fool Example. I completely agree. – Lucas B Sep 16 '10 at 19:35

Anybody that offers a bigger return than a deposit claiming 100% safe is a fraud.

There is always a risk:

  • A small return, should mean a small risk.
  • A big return, will always be a big risk.
  • A huge estimated return is a fraud.

Yes, you can gain 30% in a year, but nobody can guarantee that you'll repeat that gain the next.

My own experience (and I do take risks), one year I go up, the next year I go down...

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My 'rules' for not squandering the money are:

  • Never buy by telephone (never ever).
  • Never buy without an written offer.
  • Never pay without a receipt.
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My "bad advice detector" gets tingled by the following:

  • I don't like being solicited for investments, especially if I've never heard of it.
  • Exotic investments. Foreign bonds, private share issues, penny stocks, etc.
  • Volatile investments pitched as secure assets. (ie. commodities)
  • Anything that involves insurance products.
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Any investment advice that is not targeted to your situation should be avoided.

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Proverbs 11:14 states: "For lack of guidance a nation falls, but many advisers make victory sure."

Asking here is a good start. You'll (hopefully) get a few opinions.

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